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Is Bitcoin The Currency of Terrorism?

In light of the recent attacks in Paris that led to the deaths of 129 Parisians, the European Union (EU) and other international powers, including the United States and Russia, have been gathering to discuss how to curb the threats of terrorism, specifically ISIS or ISIL. Being mentioned in those discussions is the controversial topic of virtual currency with an emphasis on Bitcoin and its role in terrorism financing. But why are government officials so afraid of Bitcoin as a possible avenue for terrorist “donations”?

When you think of Bitcoin as a currency, there are a number of reasons a criminal may consider it in a money laundering application. The strongest one being you can instantly send Bitcoins anywhere in the world, nearly for free, and without any intermediaries to freeze the funds. That makes it a very efficient tool for terrorists trying to transport money faster than physical cash. Similar to cash, there is no identity attached to any Bitcoin transaction either. But, there are two glaring attributes that make Bitcoin an ineffective method for financing terrorism.

The first attribute is actually it’s lack of anonymity. While no virtual currency transactions have a direct link to identity, each transaction is displayed on a public ledger (called the blockchain) and remains there forever. This means every transaction and every chain of transactions can be traced. Furthermore, Gavin Anderson, the Chief Scientist at the Bitcoin Foundation, notes that, “Unless you are very careful in the way you use Bitcoin (and you have the technical know-how to use it with other anonymizing technologies like Tor or i2p), you should assume that a persistent, motivated attacker will be able to associate your IP address with your bitcoin transactions.” This means a Bitcoin transaction by itself, without the use of additional technology, does not fully hide a user’s identity. Instead, it can be used to identify the sender’s IP address, and ultimately, who they are. Even cash is not that transparent.

The second attribute involves the ability to exchange Bitcoins for local currency. It’s not as simple as walking up to the exchange booth found in any international airport. If you look at the bitcoin exchange infrastructure in Syria and Iraq specifically, it is quite limited. A terrorist receiving bitcoins in these countries would either have to create a bitcoin-based goods and services market, or they would have to exchange the bitcoins for currencies in more fluid markets like the United States, Europe, or China.

In the latter scenario, once the bitcoins are liquidated, they would still need to move the funds into the Islamic State controlled territories. Since the money at this point would be a traditional currency interacting with the traditional banking systems, all movements could be easily traced and subject to governmental oversight and regulation. This seems very inefficient when the original funds most likely originated in the ISIS controlled states and neighboring territories to begin with.

This weakest part of the bitcoin chain from an anti-money laundering perspective is the liquidation link, where exchanges convert funds into and out of bitcoin. If there was zero regulation in place, these exchanges would be a hotbed for criminals seeking to launder funds nearly anonymously. However, there is already strong regulation implemented to address identity issues around these weak links such as the Payment Services Directive administered by the European Commission.

Some view the current actions of the EU in regard to Bitcoin regulation as a rushed, panicked reaction. By getting the type of regulation just right, using a rational and calculated response, the EU will actually help foster innovative companies within the industry to actually curb Bitcoin as a terrorism currency. For instance, financial institutions are required to take a risk-based approach, performing deeper due diligence and transaction monitoring on higher risk clients and transactions. Government regulation can implement a similar strategy, having baseline requirements of registering and reporting transactions and increasing burdens, such as the acquisition of bonds and requesting government permission for the releasing of new products, based on higher transaction volume.